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Small Businesses Beware! AB 5 WILL affect businesses that hire workers with the intent of treating them as independent contractors!

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February 3  |  California  |   admin

AB 5 is a new law effective 1/1/20. It will enforce California independent contractor rules, punishing businesses that misclassify workers hired as independent contractors that should have been employees. They are targeting both small and large businesses. However, large businesses are in luck, as they are able to rally support & have the resources to sue against the bill, such as Uber and Lyft.

Consumers will be directly affected; ride-share services will increase their fees to fund the cost for classifying their workers as employees, and consequently paying their benefits as well. This also applies to small businesses that rely on independent contractors, resulting in price increases to accommodate the new pay and benefits. It will also put many independent contractors out of a job due to the reclassification.

Some small businesses that rely on independent contractors will be crippled as a result of this bill. Employers that do not comply with the new law, which took effect January 1st, 2020, will be sued by city attorneys, which are empowered by law to go after companies for noncompliance. Other government entities are also being given enforcement powers. The Employment Development Department and Department of Industrial Relations have already mailed letters to more than 1 million California employers. Businesses suspected of non-compliance may be selected for payroll tax audits or inspections. Cities expect to see this bring in revenue that was previously avoided such as payroll taxes and premiums for workers’ compensation, social security, unemployment, and disability insurance.

The ABC test as distilled in AB5 prohibits an employer from classifying a worker as an independent contractor unless the employer can establish that:

(A) The employer does not control or direct the worker in performing the work in fact or under the terms of a contract; and

(B) The work performed is outside the “usual course” of the hiring entity’s business; and

(C) The worker is customarily engaged in an independently established trade, occupation, or business of the same nature as that involved in the work performed.

Scroll down to see a detailed view of AB5

AB5 simultaneously narrowed the ABC test by excluding numerous types of work from its reach. The exceptions comprise most of the statute’s text.

Among the exceptions are licensed physicians, lawyers, engineers, tutors (that teach their own curriculum, and that are not public school tutors), commercial fishermen, AAA-affiliated tow truck drivers, real estate agents, accountants, and private investigators; certain marketing and human resources professionals; and licensed manicurists and barbers who can meet certain conditions, including setting their own rates.

These occupations that were treated as independent contractors in the past will be covered under AB 5: health care professionals, ride share services, delivery service workers, truck drivers, janitors and housekeepers, health aides, performers and other entertainment professionals, land surveyors, architects, geologists, campaign workers, language interpreters, exotic dancers, rabbis and other clergy.

AB5 also excludes any “bona fide business-to-business contracting relationship,” that is, a relationship under which a sole proprietor, partnership, or other form of business provides services to another business. The contracting business to which services are provided must satisfy 12 criteria to avoid application of the ABC test, including showing that the business service provider provides services directly to the contracting business and not to customers of the contracting business; the business service provider “actually contracts with other businesses to provide the same or similar services and maintains a clientele without restrictions from the hiring entity;” and the business service provider can set or negotiate its own rates, and set its own hours and location.

Contractors aren’t entitled to the protections that many laws provide to employees. These include:

  • Coverage by workplace discrimination laws

  • Eligibility for overtime pay

  • Coverage by workers’ compensation statutes

  • Collection of post-termination unemployment

  • Eligibility for health insurance and other employee benefits

Independent Contractor Reporting

Businesses and government entities (defined as a “service-recipient”) are required to report specified information to the Employment Development Department (EDD) on independent contractors (defined as a “service-provider”).

You are required to report independent contractor information if you hire an independent contractor and the following statements all apply:

  • You are required to file a Form 1099-MISC for the services performed by the independent contractor.

  • You pay the independent contractor $600 or more or enter into a contract for $600 or more.

  • The independent contractor is an individual or sole proprietorship.

You must report independent contractor information to the EDD within 20 days of either making payments totaling $600 or more or entering into a contract for $600 or more or entering with an independent contractor in any calendar year, whichever is earlier. Businesses that transmit electronically must submit 2 monthly reports that are not less than 12 days and not more than 16 days apart. Submit reports only for new independent contractors.

You are required to provide the following information:

Service-recipient (business or government entity):

  • Federal Employer Identification Number (FEIN)

  • California employer payroll tax account number (if applicable)

  • Social Security number (SSN)

  • Service-recipient name/business name, address, and phone number

Service-provider (independent contractor):

  • First name, middle initial, and last name

  • Social Security number

  • Address

  • Start date of contract (if no contract, date payments equal $600 or more)

  • Amount of contract, including cents (if applicable)

  • Contract expiration date (if applicable)

  • Ongoing contract (if applicable)

A service-recipient may be charged a penalty of $24 for each failure to report within the required time frames, unless the failure is due to good cause. If the failure to report is intentional or if the report is falsified, a penalty of $490 may be charged.

Questions to Determine whether a worker is an Employee or an Independent Contractor

Do you instruct or supervise the person while he or she is working? Independent contractors are free to do jobs in their own way, using specific methods they choose. A person or firm engages an independent contractor for the job’s end result. When a worker is required to follow company procedure manuals and/or is given specific instructions on how to perform the work, the worker is normally an employee.

Can the worker quit or be discharged (fired) at any time? If you have the right to fire the worker at will and without cause, it indicates that you have the right to control the worker, indicating that the worker is an employee. Independent contractors are engaged to do specific jobs and cannot be fired before the job is complete unless they violate the terms of the contract. They are not free to quit and walk away until the job is complete. For example, if a shoe store owner hires a licensed painter to paint the store, and the work had started, the store owner would not be able to just terminate the painter without there being a good reason or just cause for doing so.

Is the work being performed part of your regular business? Work which is a necessary part of the regular trade or business is normally done by employees, making the worker an employee. For example, a sales clerk is selling shoes in a shoe store. A shoe store owner could not operate without sales clerks to sell shoes. On the other hand, a plumber engaged to fix the pipes in the bathroom of the store is performing a service on a onetime or occasional basis that is not an essential part of the purpose of the business enterprise. A certified public accountant engaged to prepare tax returns and financial statements for the business would also be an example of an independent contractor

Does the worker have a separately established business? When individuals hold themselves out to the general public as available to perform services similar to those performed for you, it is evidence that the individuals are operating separately established businesses and would normally be independent contractors. Independent contractors are free to hire employees and assign the work to others in any way they choose. Independent contractors have the authority to fire their employees without your knowledge or consent. Independent contractors can normally advertise their services in newspapers and/or publications, the Internet, yellow page listings, radio, television, and/or seek new customers through the use of business cards.

Is the worker free to make business decisions which affect his or her ability to profit from the work? An individual is normally an independent contractor when he or she is free to make business decisions which impact his or her ability to profit or suffer a loss. This involves real economic risk, not just the risk of not getting paid. These decisions would normally involve the acquisition, use, and/or disposition of equipment, facilities, and stock in trade which are under his or her control. Further examples of the ability to make economic business decisions include the amount and type of advertising for the business, the priority in which assignments are worked, and selection of the types and amounts of insurance coverage for the business.

Does the individual have a substantial investment in their job which would subject him or her to a financial risk of loss? Independent contractors furnish the tools, equipment, and supplies needed to perform the work. Independent contractors normally have an investment in the items needed to complete their tasks. To the extent necessary for the specific type of business, independent contractors provide their own business facility.

Do you have employees who do the same type of work? If the work being done is basically the same as work that is normally done by your employees, it indicates that the worker is an employee. This applies even if the work is being done on a one-time basis. For instance, to handle an extra workload or replace an employee who is on vacation, a worker is hired to fill in on a temporary basis. This worker is a temporary employee, not an independent contractor.

Do you furnish the tools, equipment, or supplies used to perform the work? Independent contractors furnish the tools, equipment, and supplies needed to perform the work. Independent contractors normally have an investment in the items needed to complete their tasks.

Is the work considered unskilled or semi-skilled labor? The courts and the California Unemployment Insurance Appeals Board have held that workers who are considered unskilled or semi-skilled are the type of workers the law is meant to protect and are generally employees.

Do you provide training for the worker? In skilled or semi-skilled work, independent contractors usually do not need training. If training is required to do the task, it is an indication that the worker is an employee.

Is the worker paid a fixed salary, an hourly wage, or based on a piece rate basis? Independent contractors agree to do a job and bill for the service performed. Typically, payments to independent contractors for labor or services are made upon the completion of the project or completion of the performance of specific portions of the project. If the worker is paid a fixed salary, they are an employee.

Did the worker previously perform the same or similar services for you as an employee? If the worker previously performed the same or similar services for you as an employee, it is an indication that the individual is still an employee.

Click here to read more on AB 5 and how it will impact you.

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